Okomu Oil: Inelastic Demand Vs. Price Hike: A Sustainable Recipe?

6M 2017 Performance Analysis: Revenue and Net Income grew by 65.3% and 73.4% respectively. Okomu Oil Palm Company Plc (‘’Okomuoil’’ or the ‘’Company’’) recently released its unaudited 6M 2017 results for the period ended June 30th, 2017. The Company reported a revenue of N12.48bn ($34.2m), representing a growth of 65.3% from N7.55bn ($20.7m) recorded in 6M 2016. The comparative strong growth recorded in the top line could be adduced to impact of recent upgrade in production line.

This, we think has become a major stimulator to Okomu’s business model both in the medium and long term. Pre-tax-profit grew by 99.8% to N7.81bn ($21.4m) from N3.91bn ($10.7m) in 6M 2016. Tax provision increased over 400% to N1.58bn ($4.3m) as it feed on improved income. Despite the observation above, effective tax rate was 20.2% and lower than benchmark. Net profit closed significantly above 30.1% posted in similar period between 2016 and 2015. It grew by 73.4% to N6.54bn ($17.9m) from N3.6bn ($9.9m) in 6M 2016.

With the Company’s bottom line looking up, so did other performance ratios, such as earnings per share (EPS) 653 kobo vs 377 kobo in 6M 2016, profit margin 49.9% vs 47.7% in 6M 2016 and return on equity (RoE) 28.6% vs 21.1%.

Cost heads reflects economic dynamics: Cost heads were mixed due to varied dynamics within the economic space. Cost of sales for instance went up by 98.1% and reflected the rise in the volume of Oil Palm and Rubber sold. It spiked up to N1.27 billion ($3.5m) from N649.61 million (N1.9m) in 6M 2016.

OPEX was 13.9% higher at N3.26 billion ($8.93m) against 6M 2016 and equally higher than 11.1% posted in 3M 2017. Finance cost went up by 122.4% at N366.23 million ($1.0m) and higher than 70.6% recorded in 3M 2017. The high finance cost reflected the challenges around the FX in the first half of the year considering that rate was devalued from N282.00 in H1 2016 to existing official of N305.50 and parallel of N365.00 against the US$.

Boosters of sales/revenues in 6M ‘17
Okomu revenue growth was boosted by Naira devaluation which romped up the prices of Palm Oil and Rubber in the market place. For instance, five (5) liters of Palm Oil moved from N1,300 in H1 ’16 to N2,500 in H1 ’17, representing a 92.3% appreciation. This obviously impacted on the revenue reported in the period.

Palm Oil sales returns moved up to N1.15 billion ($3.16m), representing a growth of 111.9% over N582.82 million reported in 6M ’16. Rubber sales was equally up by 97.8% from N66.79 million ($0.18m) in 6M ’16 to N132.1 million ($0.36m). The management took advantage of the export drive of the federal government as she scaled up export sales by 65.4% compared to a dip of 15.4% reported in 6M 2016. Total sales within the domestic market also grew by 65.4% from N6.77 billion ($18.5m) in 6M 2016 to N11.19 billion ($30.67m).

Recalled that in our previous report on the Company in 2016, we took cognizance of the scaled up in her palm oil milling capacity from 30 to 60 tonnes fresh fruits bunches (FFB) per hour and equally refinery capacity shored up to 100 metric tonnes per day.

Gross margin turned up nearest to all time high at 89.7% compared to our forecast of 56.2% and Presco’s 75.5%. Profit margin was up by 49.9% compared to our forecast of 20.9% and Presco’s 43.3%. Return on shareholders’ fund (ROE) was 28kobo to every 100kobo utilized compared to 21kobo posted in 6M ’16 and Preco’s 10kobo. Okomu’s liquidity position is strong at current 2.3% and points the fact that the Company’s ability to meet its short term obligations whenever they fall due are not in question.

We have a concern on how effective the management is in managing its inventory considering that it only has a turn of 2.8x compared to 4.4x posted in 6M ’16. This is a drawback on the Company’s performance index. The management should strengthen its effort at ensuring it has a stronger inventory turn, which will in turn build up on its revenue.

The Company’s debt ratio dropped to 21% from 25% a year ago as it redeemed substantial part of Access Bank 5-year term loan which expiries in February 2018. Debt-to-equity currently stands at 40% and equally shows a free up of capital compared to 44% it was a year ago.

Five-year financial review and outlook: For the first time in 5-year, Okomu’s revenue grew faster in 2016 financial year (FY) at N14.37 billion ($39.4m) compared to N10.15 billion (27.80m) posted in 2012 and N9.73 billion ($25.4m) posted in 2015. FY ‘16 compared with FY ’15, revenue grew by 47.7% as the Company took advantage of capacity utilization and increased industrial demand for her products. It was boosted by Palm Oil demand, which represented 85% of the sales revenue while Rubber make up the balance.

Within the 5-year period, revenue grew by a CAGR of 7.29%. We observed efficiency in the management of the Company’s cost items, especially, COGS. Although, it grew marginally by 4.2% in FY ’16, but declined by 1.49% within the 5-year. Finance cost bill grew by a CAGR of 484.7%, and this we adduced to the effect of term loans obtained for the financing of recent upgrade in the company’s plants. Okomu’s organic growth is well depicted by profit items. Particularly, the operating and net profit heads.

Operating profit grew by 112% in FY ’16 to N6.95 billion ($19.05m). Net profit shored up to N4.96 billion ($13.59m) in FY ’16 against N2.66 billion ($7.29m) in FY ’15, representing a growth of 86.5%. On the basis of CAGR, net profit grew by 6.68%.

Financial Forecasts: Our medium to long term (2017-2019) outlook for Okomu OilPalm is based on recent development in the firm, such as; plant advancement, increasing economics of scale, increasing demand for rubber and palm oil products, nearness to raw materials and strong market presence.

The Company is equally faced with negative factors, such as; FX exposure and risk and weak consumers spending power. Having critically analyzed these factors, we are of the opinion that the positives outweighed the negatives, hence, our FY 2017 gross earnings projection for the firm is N17.96 billion ($49.2m) representing a 25% growth over FY 2016. We anticipate COGS would go up as result of increased business activities. We also estimate pre-tax income and net income to go up to N8.08 billion ($22.14m) and N6.06 billion ($16.6m) translating to 36.8% and 22.1% growths respectively.

Valuation: Based on our analysis, Okomu OilPalm at current market price of N66.50 is trading at 18.80% premium to our estimate fair value of N54.00, with a 12-month investment horizon. In arriving at our fair value for the stock, we took cognizance of 5-year historical financial performances of the firm and our expectation for FY 2017.

Our fair value computation for Okomu OilPalm was calculated using Relative Valuation Model (RVM) as well as the Dividend Discount Model (DDM) comprising our expected dividend estimate for the firm and a GTI Securities customized tweak to adjust for the risk of investing in the Nigerian investment space.

We were mindful of recent resurgence in growth stability of the company, as such reliance in DDM with the expectation that dividend will be progressive and sustained. Our Required Rate of Return (RROR- 24.2%) factored in a risk premium of 12.09% and the yield for the most recently issued 10-year FGN Bond was applied as the risk free rate at 16.50%. Our analysis resulted in an Intrinsic Value of N53.77 per share. Our RVM using tangible book value produced a value of N54.24. We then took an average of the two and arrived at our fair value of N54.00. Therefore, we have placed a SELL rating on the stock of Okomu OilPalm.

Investment Conclusion/Outlook For Okomu Oilpalm: Okomu was incorporated in 1979 and has operational headquarters in Edo State. It is a member of Socfinal group of Luxembourg which owns 62.6% of the Company's shares with Nigerians owning the balance of 37.47%. The Company’s operations primarily covers production of oil palm and rubber plantations, palm oil milling, palm kernel extraction and processing and marketing of semi and finished products. It recently acquired 11,400 hectares of land and plans to establish 10,000 hectares of oil palm plantation on it within the next 3 years.

This is expected to lead to a doubling of Crude Palm Oil (CPO) output for the firm. The Company’s products are palm oil, palm kernel oil, palm kernel cake, banga (package) and rubber cup lumps. With a view to consolidating its leading role in the oil palm sub-sector of the agroindustry in Nigeria, the company expanded its industrial facilities capacity to 60 tonnes fresh fruit bunches (FFB)/hour. This effectively make it one of the largest mills in Africa.

The company’s refinery capacity was also increased to 100 metric tonnes per day, while its fractionation plant capacity and refined products capacity have both increased to 60 tonnes per day. The capacity expansion is in line with the Company’s need to cope with increased production from its recent plantations, and rising demand from customers. We expect to more benefits of this expansion initiatives in the 2017 financial year.